Bank of England - Confusion Reigns

As I write, the likelihood of imminent rate rises in the UK still hangs in the balance, following the release of another strong set of employment figures and, shortly afterwards, a still surprisingly dovish Bank of England Quarterly Inflation Report, (QIR).

As I write, the likelihood of imminent rate rises in the UK still hangs in the balance, following the release of another strong set of employment figures and, shortly afterwards, a still surprisingly dovish Bank of England Quarterly Inflation Report, (QIR). To quote Governor Carney's comment at the news conference following the QIR's release, this is a BOE struggling with the 'conundrum' of extremely robust increases in employment, good news on the participation rate, but still stubbornly low average earnings growth. The key chart in the QIR is chart 5.2, on page 38, (where the Bank sees inflation over its forecast horizon, assuming current interest rates), which shows a tiny fall from its sister chart 5.3, extracted from the May report.

Carney was at pains to emphasize that there was 'tremendous uncertainty' within the MPC as to the amount of remaining slack in the economy, (the economy's spare capacity to increase employment further without giving rise to a surge in inflation), with 1% to 1.5% being their best guess, but that there was a 'broad range' of views. I believe most commentators, and the Bank of England, have over-estimated slack, probably due to a failure to comprehend the significant structural changes which the UK economy has undergone since the crisis.

Crucially, recent speeches from hitherto middle-of-the-road MPC members seem to suggest some sinew- stiffening; Ian McCafferty , "The time...for interest rates in the UK to start to rise back to a more normal level is approaching", and, "That's going to depend on how fast growth is in the 2nd, 3rd and 4th quarters..." (LBC, June 9) "...there is an additional reason not to hold back too long...it will be critically important that rises...are delivered...at only a modest...pace", and then Governor Carney's famous Mansion House speech on June 12; 'It, (the first rate hike), could happen sooner than markets currently expect...', and, Q: "When would you make the first move, will it be at the end of this year, will it be early next year, will it be the spring? A., "it could be any one of these years".

The MPC members who remain most reluctant to raise rates, (most likely Forbes, Cunliffe, and Miles), are concerned chiefly by the apparent low levels of wage inflation; traditionally a good leading indicator for real, home-grown inflation down the road. It now seems highly likely that they will be outnumbered very soon by a majority that sees a booming economy across consumption, investment and housing activity, and there must be a point close by at which employment growth causes wage growth to accelerate; other employment metrics lead one to question the veracity of the subdued statistics on wage growth trotted out by the Office for National Statistics, (ONS). Just as an example of incongruous ONS output, they would have us believe that our soaring construction industry is paying workers 1.0% less than a year ago!

Most private-sector wage surveys indicate stronger wage growth than the official data. The think-tank, the Resolution Foundation, recently said official figures do not capture some 4.5 million self-employed workers, leading them to conclude that, "Our analysis suggests that at different times we may have both overstated and understated, often significantly, how much workers have been earning" , with the overstatement coming between 2008 and 2012, and the understatement ever since then.

Other survey data shows that starting salaries are rising at the fastest rate seen since at least late-1997, with widespread skill shortages in almost all sectors, and Markit say that 47% of survey respondents reported that the availability of permanent staff had deteriorated since May, (5% reported an improvement), with the dearth of candidates the worst since Markit began compiling this survey in 1997. This is just the sort of data that will have MPC members feeling uncomfortable and reaching for the trigger.

Sure, there are exogenous factors which lend some uncertainty-namely Ukraine and the Eurozone, but significantly, maybe the probability of Scottish independence has receded following Mr Darling's recent superb TV debate performance and matters closer to home will loom larger in the MPC's psyche.

The next big date is Wednesday 20th, when we will see the minutes of the Aug 6th, 7th meeting, and discover whether there were any dissenting voices. I think that Carney's comments today on the 'broad range' of views re the degree of remaining slack may be a hint that it's highly likely the vote at that meeting was a 7-2 majority, with Weale and McCafferty voting nay.

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